Systemic Risk Management in Financial Networks with Credit Default Swaps

Leduc MV, Poledna S, & Thurner S (2016). Systemic Risk Management in Financial Networks with Credit Default Swaps. In: NetSci-X 2016, 11 -13 January, 2016, Wroclaw, Poland.

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Abstract

We study insolvency cascades in an interbank system when banks are allowed to insure their loans with credit default swaps (CDS) sold by other banks. We show that, by properly shifting financial exposures from one institution to another, a CDS market can be designed to rewire the network of interbank exposures in a way that makes it more resilient to insolvency cascades. A regulator can use information about the topology of the interbank network to devise a systemic insurance surcharge that is added to the CDS spread. CDS contracts are thus effectively penalized according to how much they contribute to increasing systemic risk. CDS contracts that decrease systemic risk remain untaxed. We simulate this regulated CDS market using an agent-based model (CRISIS macro-financial model) and we demonstrate that it leads to an interbank system that is more resilient to insolvency cascades.

Item Type: Conference or Workshop Item (Paper)
Uncontrolled Keywords: Systemic Risk, Credit Default Swaps, DebtRank, Agent-Based Models, Multiplex Networks, Interbank Systems
Research Programs: Advanced Systems Analysis (ASA)
Depositing User: Luke Kirwan
Date Deposited: 30 Mar 2016 07:03
Last Modified: 20 Dec 2016 12:05
URI: http://pure.iiasa.ac.at/12345

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